China and the World of Business • China Business and the World

As I sat in Starbucks in FullLink Plaza last Thursday talking to global strategist and educational publisher Hanya Kim about tech and agriculture, who should run by looking slightly harried but Jonathan Landreth, The Hollywood Reporter’sBeijing bureau chief. Gentleman that Jonathan is, he apologized for not stopping to chat, but he was heading next door (the Ministry of Foreign Affairs) to hear the party-line response to the WTO complaint about China’s lax IPR enforcement.

Jonathan wrote a good article that subtly made the point that putting China on 90 days notice to provide a full report on its IPR record was a tad impractical. Here in the Hutong, however, the whole thing looks irrelevant. And here’s why:

The Playground Dynamics of IPR Enforcement

The biggest problem with the international neé American neé Hollywood approach to the IPR problem in China is that it is fundamentally selfish. Essentially, Hollywood shows up and says “you guys better stop letting your people make money stealing our stuff, or we’re going to tell mom on you.”

Beijing’s policy-makers understand that the constituency that keeps them in power is NOT Hollywood, but the local party and industry. Keeping people working, even if they’re manufacturing, transporting, distributing, or retailing pirated DVDs, is far more critical than the happiness of the film, television, and music moguls of the world. So they make polite noises, a couple of politically convenient and highly-publicized busts, and that’s it.

So Hollywood runs and tells mommy (the US Government), who then uses the exact same tactics that Hollywood used, petulantly demanding that Beijing play by the rules or it will run and tell the WTO, fully expecting (apparently) that Beijing will be more afraid now that the challenge is coming from the government instead of the industry.

Same response from aforementioned Chinese bureaucracy.

So now, its off to the WTO, and invariably three months from now we will face the specter of the WTO showing up with some tough questions. And once again, China’s policy makers must ask the question for which they have yet to get a satisfactory answer: “if we go and shut down all of the pirates, what’s in it for us?”

Let’s assume this goes to its ultimate, logical conclusion, which would be to impose some form of WTO-based trade sanctions on China. What sorts of terms and conditions could the WTO impose on China? Could the WTO reasonably demand that China end piracy?

They might. More likely they will demand some lesser level of compliance, including a demonstration of stepped-up enforcement against the most serious violators, because a fair argument can be maid that China needs more time and resources to expand its enforcement infrastructure. If this is the case, there will still be a lot of piracy for a very long time.

No Silver Bullets

Even if the WTO goes all the the way and brings down the hammer on China, the awful truth is that piracy won’t go away – it will just go underground. As long as the financial rewards of piracy remain large, pirated and counterfeit goods will simply go the way of moonshine, marijuana, and grey-market cigarettes: deep underground, where its hard to chase.

The other reason the IPR problem is naturally resistant to a single, comprehensive solution is that it is not a simple issue. On the legal and regulatory side alone, China’s IPR problem is partly a matter of an adequate body of laws (now largely but not completely solved,) investigative and policing resources, judicial procedure (in terms of evidence and sentencing guidelines), and of China’s complex brand of federalism that puts provincial and local authorities at odds with – and often in the way of – enforcement driven from the central authorities.

And there’s even more to it than that.

It’s About the Money

People forget that there is a huge commercial component to the IPR problem.

They forget because industry is really uncomfortable saying things like “people love our products but they don’t like paying so much for them.”

They forget because it is incredibly embarrassing for the executives of fast-moving consumer goods companies to admit that the biggest source of counterfeit goods is coming from within their own supply chains – and sometimes their own organizations.

They forget because it’s much easier for entertainment executives to blame piracy for a failure to build a market than it is to admit that one hasn’t pursued all of their commercial options, or thought creatively about taking market share and building revenue regardless of the legal environment.

They forget, indeed, because it is much easier to cast aspersions on China than on an industry that has yet to figure out one important fact: as soon as a failed IPR regime is demonstrably and severely hurting local interests, enforcement will get better fast.

These are issues that cannot be addressed directly by laws and enforcement, however stringent those systems. Anyone who doubts that need only look at the U.S. With arguably the worlds most robust IPR protection regime, software and music piracy is still huge in the U.S. The trade in counterfeit luxury goods is driven as much by American tourists as it is by local buyers. And the United States Bureau of Tobacco, Alcohol, and Firearms is discovering that its biggest challenge in overcoming smuggling of grey-market cigarettes is the internal systems of the tobacco companies themselves.

At the danger of oversimplifying, lets put it this way:

Chinese want DVDs of U.S. films. If they can’t go to HMV or a Virgin Megastore to buy legitimate goods, where are they going to go?

Dangerous Interlude: The Wal-Mart Factor

Here’s a tickler. A little out of left field, perhaps, but something to think about.

The WTO cracks down on China, placing putative tariffs on a wide range of exports. The company that suffers the most and the fastest is China’s largest customer, buying over $10 billion in a wide range of products from China and seeking a bigger role in China’s retail sector.

Wal-Mart.

Now here’s an interesting fact. The largest customer for some of the companies most aggrieved by China’s IPR regime (P&G, Unilever, Disney, Time-Warner, etc) is Wal-Mart.

Is it beyond conception that if this came down to details that Lee Scott, looking at his disappearing cost advantage and a Chinese government increasingly hostile to his expansion in the PRC, might pick up the phone and starting to apply some very angry pressure on these companies to back off?

Indeed.

But we digress.

Fixing the Problem

I am by no means advocating that anyone stop pushing the Chinese to continue to improve their enforcement of their IPR laws. But I think it’s time we all demonstrated how sincere we are about solving the problem by:

> Recognizing that there are no simple solutions to a complex, multifaceted problem.

> Taking a more sophisticated, multi-faceted approach to the legal and regulatory issue, and doing so in a concerted (rather than piecemeal) way.

> Working in concert with local IPR owners on helping them improve their own IPR protection, and making THEM, not the Seven Sisters of Hollywood, the true aggrieved parties in the process.

> Forgetting for a moment the lawyers and the politicians, and instead thinking creatively about the measures that can be taken at the enterprise level. There are already great examples of this (Time-Warner has, remarkably, a huge and growing legitimate home video business in China; some consumer goods companies are aggressively moving to shut down internal fraud). There need to be more.

> Coming up with more creative ways to move into the market and to protect IPR as China develops, rather than standing on the sidelines fretting about poor legal controls.

I’m sure this will upset a lot of lawyers and career trade bureaucrats. But that’s okay – solving China’s IPR problem is about building businesses based on ideas, not about an annuity for the legal profession.